Federal Extenders Passed by Congress Cause Late Tax Planning Changes
Margaret Amsden
As the legislative sessions drew to a close last week the Senate passed H.R. 5771 and President Barack Obama signed the legislation on December 19, 2014, to retroactively renew a package of tax extenders this year.
The bill, passed by the House of Representatives on December 3, continues more than 50 currently expired tax breaks and other benefits for individual and business taxpayers through December 31, 2014. All of these provisions then expire again beginning January 1, 2015. As a result, legislators will start the new Congress on January 6, 2015, and begin debate anew on whether to carry forward the temporary extenders yet again.
Some of the key extenders that will impact individual taxpayers include:
- The above the line deduction for certain expenses of elementary and secondary school teachers, as well as qualified tuition and related expenses.
- Exclusion from gross income of discharge of qualified principal residence indebtedness.
- Deduction of mortgage insurance premiums treated as qualified residence interest.
- Deduction of state and local general sales taxes, a significant benefit to those living in states that do not assess an income tax such as Florida.
- Tax-free distributions from individual retirement
Some of the key extenders that will impact businesses include:
- Extension of research and experimentation credit.
- Depreciation changes including: 15-year straight-line cost recovery for qualified leasehold improvements, 50% bonus depreciation, and increased expensing limitations and treatment of certain real property as section 179 property.
- Extension of employer wage credit for employees who are active duty members of the uniformed services and the work opportunity tax credit.
- Reduction of the S-corporation recognition period for built-in-gains tax.
Following are some additional details on the provisions that may be most impactful to closely held business owners including the Research and Experimentation credit, the 50% first year bonus depreciation rules, and the increased expensing election under IRC Section 179.
Research Credit Extended
Generally, the research credit equals the sum of 20% of the excess (if any) of the qualified research expenses for the tax year over a base amount, unless the taxpayer elected an alternative simplified research credit. The base amount is a fixed-base percentage of the taxpayer’s average annual gross receipts from a US trade or business for the four tax years before the credit year, and can’t be less than 50% of the year’s qualified research expenses.
A taxpayer can elect an alternative simplified research credit equal to 14% of the excess of the qualified research expenses for the tax year over 50% of the average qualified research expenses for the three tax years preceding the tax year for which the credit is being determined.
Under pre-Act law, the research credit didn’t apply for amounts paid or accrued after December 31, 2013. The recently passed law retroactively extends the research credit for one year to apply to amounts paid or accrued before January 1, 2015.
Bonus First-Year Depreciation Extended
Internal Revenue Code Sec. 168(k) allowed bonus first-year depreciation equal to 50% of the adjusted basis of qualified property acquired and placed in service before January 1, 2014. The new law extends this bonus depreciation for one year so that it applies to qualified property acquired and placed in service before January 1, 2015.
The additional first-year depreciation deduction is allowed for both regular tax and alternative minimum tax (AMT) purposes, but is not allowed for purposes of computing earnings and profits. A taxpayer may elect out of additional first-year depreciation for any class of property for any tax year.
In general, an asset qualifies for the bonus depreciation allowance if It falls into one of the following categories:
- Property to which the modified accelerated cost recovery system (MACRS) rules apply with a recovery period of 20 years or less;
- Most computer software other; or
- Qualified leasehold improvement property.
The property must generally be placed in service before January 1, 2015. Additionally, it must be new equipment, i.e., its original use commences with the taxpayer.
Boosted Expensing Amounts for 2014
Under Code Sec. 179, a taxpayer may elect to deduct as an expense, a specified amount of the cost of new or used tangible personal property placed in service during the tax year in the taxpayer’s trade or business. The maximum annual expensing amount generally is reduced dollar-for-dollar by the amount of Code Sec. 179 property placed in service during the tax year in excess of a specified investment ceiling. Under pre-Act law:
- The dollar limitation on the expensing deduction was $500,000; and
- The investment ceiling began to take effect when property placed in service in the tax year exceeds $2,000,000.
These levels were set to expire as of December 31, 2013, with the maximum expensing limit scheduled to drop to $25,000, and the investment ceiling to $200,000.
Under the law just enacted the limits are retroactively extended for one year back to the increased $500,000 maximum expensing amount and the increased $2 million investment-based phase-out amount. These increased amounts will apply for qualified property placed in service before January 1, 2015.